Ten Steps to Reforming Baby Boomer Retirement

Policy Reports | Retirement

No. 283
Thursday, March 23, 2006
by John C. Goodman, Devon Herrick, Matt Moore

Step 3. Expanding IRAs

One of the most remarkable characteristics of our retirement system is the completely arbitrary limits that are placed on the opportunities of different people to engage in tax-deferred saving.

This year, workers can contribute up to $15,000 in a 401(k), regardless of income. Older workers — baby boomers age 50 or older — can make an additional “catch-up” contribution of $5,000. IRAs have different limits. Eligible individuals can make tax-deductible contributions to an IRA of only $4,000, or $5,000 if they are age 50 or older. In addition, the tax benefits of IRAs phase out for people with moderate to higher incomes. For example, IRA contributions are fully deductible for singles with incomes up to $32,000 and couples who are married filing jointly with incomes up to $52,000. The deductibility of IRA contributions phases out completely for singles earning $42,000 or more, and for couples who are married filing jointly earning $62,000 or more.

Some workers do not have access to a 401(k) plan because they work for an employer that does not offer one. Others may choose not to join, perhaps because the plan has too few options or is poorly administered. Either way, public policy should provide workers maximum flexibility to choose their retirement investment options. To that end, Congress should equalize the treatment of IRAs and 401(k)s by making the contribution levels to both investment vehicles the same.

"Income and contribution limits on Individual Retirement Accounts should be raised."

Tax-advantaged savings can produce more than twice as much retirement income as comparable taxable investments, depending on a person's tax bracket. Thus, an IRA is one of the best ways to save when one doesn't have access to an employer-sponsored plan. When deciding which investment vehicle is best, families also should consider the benefits of Roth IRAs. (See below.)

IRAs are particularly important for women because they are more likely than men to have shorter or inconsistent employment histories. The ability to save money independent of employer-sponsored plans is a challenge for everyone, but for women — who are more likely to be earning lower wages or to be out of the workforce — personal saving is more difficult. Putting discretionary income into a personal retirement savings account competes with setting aside money for preschool, the children's college expenses, medical emergencies or any of the many unplanned events in family life.

A step in the right direction has been the creation of spousal IRAs, which allow the spouse of a wage earner to set aside up to $4,000 of pretax income ($5,000 if age 50 or older) each year, which can grow tax-free until it is withdrawn during the retirement years. This is a viable option for married couples; however — as with traditional IRAs — the contribution limit is meager compared to allowable contributions to employer-sponsored plans. Under current law, a nonworking spouse can make a deductible IRA contribution as long as the couple files a joint return, and the working spouse has at least as much earned income as the contribution. As with traditional IRAs, the deductibility of the nonworking spouse's contribution is phased out for couples with higher incomes. As with regular IRAs, public policy should equalize contribution opportunities at home and work.

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